Crowdfunding Or Venture Capital?

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British rock band Marillion have sold in excess of 15 million albums in their 37-year career. Ranked 38th in Classic Rock's '50 Best Live Acts of All Time' in 2008, the neo-progressive rock five-piece had a resurgence in the mid-2000s. They might also have kicked off a trend that could get your business off of the ground. In 1997, the term crowdfunding hadn't even been coined. But, when short of money to embark on a North American tour, the band successfully raised $60,000 by turning to their fans in seek of funding.

Over 12,000 pre-orders on their album took them on the tour, and gave them the opportunity to fund the writing and recording of the album Anoraknophobia. It is also the basis for the model used by now-household-name crowdfunding sites Kickstarter and Indiegogo. Nearly 20 years on, the notion of a democratic pooling of funds has seen everything from movies to multi-functional coolers build requisite investment - the latter raised over $13 million. In 2015, according to a study by the University of Cambridge and Nesta, crowdfunding surged fourfold from the previous year to £332 million ($460 million) in the UK alone. Worldwide, the industry more than doubles every year. In March 2016, crowdfunding flexed its muscles, as app-only bank Mondo raised a staggering £1 million in just 96 seconds before crashing Crowdcube. Set to surpass Venture Capital (VC) in 2016 - as part of the trend of slowing VC - which investment-securing method is right for your company?

Crowdfunding options have grown since its conception, with four different methods the most common employed. A reward-based system sees backers get access to the product normally - but not always - early or in some form of limited edition. This is the primary model in gaming, in which the backers often receive the game in beta stage to help fund and direct its development. A donation-based system is much the same but without the reward incentive; it relies on gratitude and recognition being enough for the backer. An equity system - the most similar to VC - often sees greater amount of money change hands for an equity stake in the company itself, while a debt system has the backers, in a sense, more like lenders. These backers expect their initial investment back plus interest and is consequently the least common form of crowdfunding.

The advantages are numerous. Above all else, crowdfunding gives an excellent opportunity to gauge public opinion surrounding the product; the more interest garnered in the crowdfunding phase, the more resources can be confidently allocated and the bigger the launch can be. The collaborative environment means that improvements, as well as funds, can be crowdsourced, and those who have backed the project are inherently more likely to give full advice and opinion. Essentially, market research is covered. And this is where crowdfunding stakes its claim; niche products, incomplete products and concepts can all benefit from the litmus test of public backing, while backers will generally acknowledge the need for revision of a product of service, and be duly patient.

It is certainly more difficult than going through a VC, though. The time, effort and marketing skill required to build sufficient interest in an as yet nonexistent product is great. Meeting funding targets can be difficult, and a failed project is about as damaging for brand reputation as is possible. VC has its upsides, too. The money can be raised faster, it can be more guaranteed, and a more experienced VC can offer business guidance on top of the investment. For a fledgling startup, the expertise, along with the additional legal and personnel capabilities offered by a larger VC, can be invaluable. It tends to come with connections, too.

Essentially, the argument is one of control. VCs will ordinarily have a say in the running of the company - including the recruitment process - as well as their share of equity. If the VC is large, they will often take more than a 50% stake, an uncomfortable power shift for the more protective small business owner. The two can comfortably coexist, and deciding which investment strategy is more appropriate for your business is incredibly important. Crowdfunding is by a distance the more fashionable choice, but be aware of the potential pitfalls before asking hundreds or even thousands to part with their cash.